TAKING STOCK: Now RBS must show it is blue chip after consolidating shares

Appearancescan be crucial in the stock market and one recent piece of evidence for this was the announcement last week by Royal Bank of Scotland that it plans to consolidate its shares.

Under the scheme, the number of shares will be shrunk dramatically in June. Investors will be given one new share for every ten held now.
The effect is that the value of each share will be ten times higher.

So taking Friday’s closing price, an investor with 100 shares currently worth 24p each will end up with ten new shares worth 240p each.
Critically, this does not alter the value of anyone’s investment. Neither will it alter the size of their stake as a proportion of the company.

Blue-chip: RBS will have to prove that can deliver a financial performance to match

It will make no difference to the
value of RBS as a whole and it will not affect the real value of the
Treasury’s 83 per cent stake. All of which raises the question: why
bother doing it?

RBS says in a letter to shareholders
that the change will makes the share price less volatile. In theory,
there is no good reason for believing this.
If the market is behaving remotely reasonably, shares will move
proportionately. If investors believe a company’s value has halved
because of worse performance and prospects, its shares should halve in
value.

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It should not matter whether the shares are going from 50p to 25p or 200p to 100p.
But this is where the market’s irrationality and the power of appearance come into play.

As part of its explanation, RBS also
said a higher nominal share price would be ‘more appropriate for a
company of RBS’s size’. Or as one RBS source put it: ‘We don’t want to
be a penny share.’

And there’s the rub. There is an
unconscious and irrational difference in the attitude of traders and
investors towards ‘penny shares’. As a phrase, it has the clear
connotation of ‘not blue-chip’.

However mad it seems that this should really matter, there is little
doubt that traders and investors unconsciously regard penny shares as
more risky and more prone to volatile price movements, an attitude that
may become self-fulfilling.

It really could be that this shallow perception can make a difference to
a share’s volatility.
So however pointless and cosmetic, RBS’s consolidation plan may have a
kernel of rationality and a share worth pounds really may be more
appropriate for a FTSE 100 bank.

It is, however, not enough to have a nominal blue-chip share price. RBS
will still have to prove that can deliver a financial performance to
match.
Its first-quarter results this week might provide some evidence of
progress on those more substantive issues.

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TAKING STOCK: Now RBS must show it is blue chip after consolidating shares